Recently economist William Baumol perished at the age of 95. His death was universally mourned by folks the economics community, many of whom shared the vista which he had passed before receiving a much-deserved Nobel Prize. Certainly one of us (Robert) had the great privilege of utilizing him, befriending him, or being able to regularly witness his economic wisdom, even in his final years.
Of Baumol’s many contributions to economics, the most common is cost disease, which is why high-productivity industries raise costs and therefore prices in low-productivity industries. The insight is especially relevant now, as economic activity has shifted into low-productivity services like medical and education, where price increases are devouring public and household budgets, and whose continued low productivity has overwhelmed U.S. productivity growth overall.
But there’s a lesser-known thought of Baumol’s which is equally relevant today which can help explain America’s productivity slump. Baumol’s writing improves the possibility that U.S. productivity is low because would-be entrepreneurs are focused on the incorrect form of work.
Within a 1990 paper, “Entrepreneurship: Productive, Unproductive, and Destructive,” Baumol argued that this level of entrepreneurial ambition in a country is basically fixed as time passes, which what determines a nation’s entrepreneurial output could be the incentive structure that governs and directs entrepreneurial efforts between “productive” and “unproductive” endeavors.
Most of the people think about Entrepreneurship Books as being the “productive” kind, as Baumol known as it, the location where the firms that founders launch commercialize new things or better, benefiting society and themselves in the operation. A substantial body of research establishes the “Schumpeterian” entrepreneurs, the ones that are “creatively destroying” the old and only the modern, are critical for breakthrough innovations and rapid advances in productivity and standards of just living.
Baumol was worried, however, with a very different kind of entrepreneur: the “unproductive” ones, who exploit special relationships using the government to create regulatory moats, secure public spending because of their own benefit, or bend specific rules for their will, in the operation stifling competition to generate advantage because of their firms. Economists label this rent-seeking behavior. As Baumol wrote:
…entrepreneurs will always be here and constantly play some substantial role. But there are many of roles among that the entrepreneur’s efforts may be reallocated, plus some of people roles don’t continue with the constructive and innovative script which is conventionally attributed to see your face. Indeed, occasionally the entrepreneur may even lead a parasitical existence which is actually damaging towards the economy. What sort of entrepreneur acts at the given time and put depends heavily on the rules with the game-the reward structure in the economy-that happen to prevail.
In Baumol’s theoretical framework, depressed rates of entrepreneurship aren’t to blame for periods of slow economic growth; rather, a modification of the amalgamation of entrepreneurial effort backward and forward forms of entrepreneurship would be to blame – specifically, a decline in productive entrepreneurship as well as a coincident boost in unproductive entrepreneurship. But is that this what’s actually happening in the U.S.?
Well, to begin with, we yet others have documented a pervasive decline in the pace of new firm formation throughout the last three decades and an acceleration because decline since 2000. Actually, we found that by 2009 the pace of business closures exceeded the pace of business births for the first time in the three-decades-plus good our data. This decline in startup formation has happened in each state and the majority of locations, plus each broad industrial sector, including advanced. There has been a slowdown in activity of high-growth firms, the relatively very few firms that be the cause of the lion’s share of net job gains. All of this exactly what to a slowdown in the expansion of productive entrepreneurship.
How about one other form of entrepreneurship? Do we also see a boost in unproductive entrepreneurship, as Baumol theorized?
We don’t possess a smoking gun to confirm this hypothesis, but there is smoke, also it is available in two forms: rising profits, particularly those earned with the largest businesses for the overall design, and suggestive evidence more efforts to shape the policies with the game. This pattern is in conjuction with the rise of economic rents and rent-seeking behavior.
For example, Jason Furman and Peter Orszag, both former economic advisers to Barack obama, wrote an influential 2016 paper that argued that economic rents are rising, particularly since 2000, and were a main factor in increasing wage inequality observed in those times. Similarly, a small grouping of economists from MIT, Harvard, and Zurich found that industries where top firms’ business had most increased had experienced the greatest declines in the share of capital gonna workers.
Perhaps most convincing, University of Chicago economist Simcha Barkai carefully tabulated the proportion of industry income given to labor, capital, and “profits.” (Normally, capital and profits are included together a single broad, residual “returns to shareholders” category.) He found that the proportion of capital earned by workers continues to be falling, as others have described, but in addition that this share earned by capital has, too. Indeed, have been declining as the share of capital gonna “markups,” or rents, continues to be increasing.
To be clear, the presence of economic rents by itself doesn’t establish that there’s been more unproductive entrepreneurship. With the really was, there has to be be evidence more rent-seeking – which is, concerted efforts to stifle competition by influencing the reward structure or rules with the game in a market.
James Bessen of Boston University presents suggestive evidence that rent-seeking behavior continues to be increasing. Within a 2016 paper Bessen demonstrates that, since 2000, “political factors” be the cause of an important the main increase in corporate profits. This takes place through expanded regulation that favors incumbent firms. Similarly, economists Jeffrey Brown and Jiekun Huang with the University of Illinois have discovered that firms that have executives with relationships to key policy makers have abnormally high stock returns.
In short, Baumol could have been before his in time warning that economies can suffer not just from your cost disease but in addition looking at the entrepreneurial counterpart – a modification of the policies that shifts the distribution of entrepreneurial effort from activity that can help the economy toward activity that hurts it. Unfortunately, there’s strong suggestive evidence that Baumol’s warnings have come to pass. When the U.S. will probably tackle its many problems, we are going to must find solutions to encourage would-be entrepreneurs to begin innovative, productive businesses, instead of dedicating their efforts to co-opting government in order to secure economic advantage.
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